Tax Update 

In this section of Jnet, we provide brief updates on regulatory developments in tax that may impact Japanese companies operating in the United States. Please contact your local KPMG representative or Makoto Nomoto, Partner, Tax, at mnomoto@kpmg.com or 212 872 2190 with questions.

 

April 2013

 

Obama Administration's Budget for FY 2014

On April 10, the Obama administration transmitted its budget proposal for fiscal year 2014 (beginning on October 1, 2013) to Congress.  The FY 2014 budget proposes a framework for revenue-neutral tax reform and an additional deficit reduction of $1.8 trillion over 10 years. 

 

As to the framework for revenue-neutral tax reform, the administration's proposal contains the following five elements:

 

  • Eliminate loopholes and subsidies, broaden the base, and cut the corporate tax rate
  • Strengthen domestic manufacturing and innovation
  • Strengthen the international tax system
  • Simplify and cut taxes for small business
  • Restore fiscal responsibility and not "add a dime to the deficit"

 

The president's business tax reform proposal includes:

 

  • Changes to the taxation of foreign income, energy provisions, and making the research credit permanent as proposed in previous budgets.
  • Revenue-raising provisions such as a financial crisis responsibility fee imposed on large financial institutions and changes to the taxation of carried interests in partnerships, also as proposed in previous budgets.
  • New incentives, such as a temporary 10% small business credit for new jobs and wage increases.
  • Changes to the taxation of financial derivatives, much as proposed by the Ways and Means Committee, such as a mark-to-market rule.

 

The proposal does not include a specific rate reduction proposal nor does it mention some of previously suggested revenue offsets to finance the rate reduction such as elimination of accelerated depreciation, imposition of a minimum tax on income earned outside the United States, limitation on the deductibility of corporate interest, or expansion of the scope of the corporate tax to large pass-through entities.

 

Of the 1.8 trillion deficit reduction, just over $1 trillion would come from revenue increases including $580 billion new revenue from two individual income tax changes affecting high-income taxpayers:

 

  • Households with incomes over $1 million would be required to pay at least 30% of their income in taxes (the so-called "Buffett rule").
  • Value of tax deductions and other tax benefits for high-income taxpayers would be limited to 28%.

 

Texas: Taxpayer Compensation Includes Certain Benefits Deducted for Federal Income Tax Purposes

A Texas district court held that, for Texas franchise tax purposes, a taxpayer was entitled to deduct as compensation certain benefit items that were deductible for federal income tax purposes. Under Texas law, in computing taxable margin, a taxable entity can elect to deduct costs of goods sold or compensation.  In general, compensation includes all wages and the cost of all benefits, to the extent deductible for federal income tax purposes.

 

However, a Texas regulation (34 Tex. Admin. Code § 3589 (e)(2)(D)) provides that the term "benefits" does not include certain working condition amounts provided so that employees can perform their jobs (e.g., employer-provided vehicles).  The taxpayer at issue in this case appeared to challenge this regulation on the basis that it impermissibly narrowed the statute, which allows a deduction for the cost of all benefits to the extent deductible for federal income tax purposes.  The court agreed with the taxpayer and held that the regulation is invalid to the extent it prevents the taxpayer from deducting as compensation the cost of any benefits the taxpayer deducts for federal income tax purposes.

 

Withholding by Fiscal Year Partnerships with Foreign Partners

On April 24, the IRS released Announcement 2013-30 providing that, as the individual income tax rates changed between 2012 and 2013, a 2012-2013 fiscal year partnership is to remit withholding tax on effectively connected taxable income allocable to foreign individual partners under the rates that were in effect in 2012. The announcement is effective for partnership tax years beginning in 2012, and clarifies that partnerships that have effectively connected taxable income allocable to a foreign partner must:

 

  • File a 2012 Form 8804, Annual Return for Partnership Withholding Tax for any tax year that begins in 2012
  • Continue withholding at the tax rates in effect in 2012 for tax years beginning in 2012

 

Under the IRS guidance, however, foreign partners in a fiscal year partnership with a tax year ending in 2013 must pay tax on their distributive share of the partnership's effectively connected taxable income based on the tax rates in effect in the tax year of their inclusion (i.e., 2013).

 

New York: Budget Bill Makes Changes to Related Party Royalty Addback Rules

New York's budget bill (S. 2609) with more stringent related party royalty addback rules was signed into law. Under the new law, the taxpayer was required to add back royalty payments made to related members unless a taxpayer is included in a combined report with the recipient, or one of the following exceptions applies:  

 

Conduit Exception: (1) The related member was subject to tax in New York, another state, or a foreign nation on the royalty income; (2) the related member paid or accrued the royalty to an unrelated person; and (3) there was a valid business purpose.

 

Subject to Tax Exception: (1) The related member was subject to tax in New York or another state; (2) the royalty was included in the tax base of the related member; and (3) the aggregate effective tax rate is no less than 80 percent of the statutory tax rate in New York.

 

Revised Foreign Treaty Exception: (1) The royalty payment was paid, accrued or incurred to a related member organized a foreign country; (2) the related member's income was subject to a comprehensive income tax treaty between such country and the United States; (3) the related member was subject to tax in a foreign nation on a tax base that included the royalty; (4) the related member's income was taxed in such county at an effective tax rate at least equal to that of New York; and (5) there was a valid business purpose and the terms were at arm's length.

 

March 2013

 

2012 APMA Annual Report Released

On March 25, the IRS released the calendar year 2012 annual report on the new APMA Program, which was created by a merger between the legacy APA Program and the Office of the U.S. Competent Authority during the first quarter of 2012.

 

Number of Cases:

 

2012

Cumulative
(Since 1991)

Unilateral

Bilateral

Multilateral

Total

Applications Filed

24

101

1

126

1,745

Executed

New

9

48

 

57

764

Renewal

28

55

 

83

391

Pending Requests

New

36

173

0

209

N/A

Renewal

38

143

1

182

N/A

Canceled or Revoked

0

0

0

0

11

Withdrawn

2

4

0

6

180

 

Average Number of Months to Complete:

 

New

Renewal

Combined

Unilateral

28.4

30.1

29.7

Bilateral / Multilateral

47.5

44.8

46.0

Combined

44.5

39.8

41.7

 

From 2011 to 2012, the number of applications filed jumped from 96 to 126 while the number of cases executed dramatically increased from 42 to a single-year high of 140, resulting in a significant reduction in the number of pending cases from 445 to 391. In fact, 2012 was the first year in the program's history in which there were more APAs executed (140) than applications filed (126). According to the report, the improved execution result is attributable to the significant increase in staffing, especially hiring of experienced economists.

 

Of the total number of bilateral APAs executed in 2012, 53% of the cases were agreed between the U.S. and Japan, with the other two treaty countries with significant activity being Canada (16%) and the United Kingdom (10%).

 

Ways and Means Chairman Camp Releases Small-Business Tax Reform Draft

On March 12, House Ways and Means Committee Chairman Dave Camp (R-MI) released draft legislation that would reform the taxation of small businesses.

 

The draft presents reform options for the treatment of S corporations and partnerships. Under one option, the rules for S corporations and partnerships would be liberalized, but otherwise would be retained and simplified. Under a second option, the passthrough rules of S corporations and partnerships would be unified in a single passthrough regime.

 

In addition, the draft makes the following proposals outside of the passthrough regime:

 

  • Make the increased expensing limit ($250,000) and the phase-out threshold ($800,000) permanent for the small asset expensing rule under section 179 (both amounts indexed for inflation).
  • Simplify and expand use of cash accounting for small businesses.
  • Establish a unified deduction for start-up and organizational expenses with increased limit on immediate expensing.
  • Change the due dates for tax returns for partnerships, S corporations, and C corporations to March 15, March 31, and April 15, respectively, with six-month extension for all entities.  

 

In its release, the committee acknowledged that the draft "does not address certain technical and policy issues that may need to be resolved" and invites comments on them.

 

The draft is the third piece of comprehensive reform to be released for comment over the past 16 months. Chairman Camp and ranking Democrat Sander Levin (MI) recently announced the formation of 11 working groups of committee members to study various aspect of tax reform, which Camp has said he intends to pursue this year.

 

Senate Finance Releases Tax Reform Options Paper

On March 21, the Senate Finance Committee release a nine-page paper outlining aims and options for tax reform, none of them "necessarily endorsed" by either Chairman Max Baucus (D-MT) or ranking Republican Orrin Hatch (UT). The tax reform options paper highlights some reform goals related to collection and enforcement, filing process, simplification, and miscellaneous. Regarding simplification, for example, the paper cites proposals to "repeal provisions that require taxpayers to calculate their tax liability multiple times," such as the personal exemption phaseout, itemized deduction limitation, and individual and corporate alternative minimum tax.

 

Proposal to Exempt Gains Recognized by Foreign Pension Funds on U.S. Real Property Interests under FIRPTA

On March 29, the Obama Administration proposed initiatives to encourage private investment in U.S. infrastructure. Among the provisions in the administration's plan is a proposal to amend application of the Foreign Investment in Real Property Tax Act (FIRPTA) rules so that gains recognized by foreign pension funds with respect to U.S. real property interests would not be subject to tax under the FIRPTA regime.

 

According to the administration, infrastructure assets can be attractive investments for long-term investors such as pension funds that value the long-term, predictable, and stable nature of the cash flows associated with infrastructure but foreign investors including large foreign pension funds regularly cite FIRPTA as an impediment to their investment in U.S. infrastructure and real estate assets. The administration's plan points out that U.S. pension funds generally are exempt from U.S. tax upon the disposition of U.S. real property investments and proposes to put foreign pension funds on an approximately equal footing by exempting their gains from the disposition of U.S. real property interests from U.S. tax under FIRPTA.

 

February 2013

 

Senator Levin Reintroduces the "Cut loopholes" Bill

On February 12, Senator Carl Levin (D-MI) has reintroduced a bill, the Cut Unjustified Tax Loopholes Act (S. 268), the provisions of which address tax haven income, promotion of tax shelters, and deductions for stock options, among other things. It also would change the current tax treatment of so-called "carried interests" in investment partnerships. Senator Levin is the chairman of the Senate permanent investigations subcommittee that has focused on the taxation of offshore income.

 

"Corporations today pay an average tax rate of just 12%," Levin said in a floor statement. "How is that possible, when the statutory tax rate on corporations is 35%? Through loopholes in the tax code."

 

Marketplace Fairness Act of 2013 Introduced to the Congress

On February 14, a federal bill that would authorize states to require remote retailers to collect sales and use taxes on sales to in-state customers was introduced in both the House (H. 684) and Senate (S. 336). The Marketplace Fairness Act of 2013 was introduced by a bi-partisan group of Representatives and Senators. If enacted, the bill would authorize states that are members of the Streamlined Sales and Use Tax Agreement (SSUTA) to impose a sales tax collection duty on out-of-state remote sellers.

 

The bill would also grant the same authority to states that are not Streamlined members, but only if the state adopted and implemented certain minimum simplification requirements. For example, a state wishing to exercise this authority would be required to have a single agency administer, collect and audit all sales and use taxes, including local sales taxes. The state would also have to have a single return and a uniform tax base for state and local taxes. Furthermore, states would be required to have information and software in place to help remote sellers identify the applicable rate and taxability of an item. States would also be required to certify entities as qualifying to provide approved compliance services to sellers. Sellers and certified service providers would have to be held harmless for errors resulting from state-provided information.

 

Interstate sales would be sourced on a destination basis, and the bill would not apply to intrastate sales, which could be sourced under the SSUTA's origin rules. Certain small sellers—those with annual remote sales in the U.S. of $1,000,000 or less — could not be compelled to collect and remit.

 

Changes to Section 1446 Partnership Withholding Tax Rates

As the American Taxpayer Relief Act of 2012 increased the maximum tax rate for individuals to 39.6% and the maximum tax rate on capital gains to 20%, for tax years beginning after December 31, 2012, the section 1446 withholding rates to be applied by U.S. or foreign partnerships with effectively connected taxable income (ECTI) allocable to their foreign partners have changed.

 

The IRS published the new applicable section 1446 withholding tax rates in the 2013 Form 8804-W, Installment Payments of Section 1446 Tax for Partnerships, and the 2013 Instructions for Form 8804-W.

 

IRS Proposals for Changes to AFR Determination

On February 5, the IRS released Notice 2013-4 that:

 

  • Proposes to revise the method currently used by Treasury and the IRS to determine the adjusted applicable federal rates (adjusted AFRs) under section 1288(b) and the adjusted federal long-term rate under section 382(f)(2)
  • Requests comments on what changes need to be made to the current method of determining the rates
  • Provides interim guidance modifying the current method until a future method is established

 

As explained by Notice 2013-4, Treasury and the IRS are considering how to modify the method for determining adjusted AFRs and the adjusted federal long-term rate so that the method will be: (1) consistent with the purposes of sections 382(f) and 1288 even as market conditions and tax rates change; and (2) based on readily available data.

 

Delaware: Pending Legislation Would Extend the New VDA Program Deadlines

Delaware House Bill 2, which is currently awaiting the governor's signature, would extend the deadline for completing the state's new Unclaimed Property Voluntary Disclosure Agreement (VDA) Program by one year. Under the new, limited-time VDA program administered by the Delaware Secretary of State, companies that request participation prior to June 30, 2013, and remit full payment (or commit to a payment plan) prior to June 30, 2014 will not be required to report property issued prior to 1996. House Bill 2 would extend the June 30, 2014 deadline for completing the VDA and remitting payment to June 30, 2015.

 

While Delaware had a traditional VDA Program administered by the State Escheator's Office, the old program has been unpopular because participants tended to be treated in a manner as if they were audited. If signed, the new legislation would provide companies that entered into a VDA under the State Escheator's program prior to June 30, 2012, with an opportunity to participate in the new VDA program for any property types, periods, and subsidiaries or related parties that were not included under the earlier VDA.

 

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